Credit Financing: Investment vs Equity Loans
Entrepreneurship requires a strong business acumen to manage day-to-day operations and swiftly overcome any hurdles along the way. There may come a time in your business when you require cash infusion for further expansion and sustainability. There are two ways in which you can procure credit financing for your company, one being an equity loan and the other, an investment loan. An equity loan is a means of bartering “x” amount of funding for shares, while an investment (business) loan provides you with finances that you are required to repay within a certain time frame. Keep in mind that providing collateral as part of a secured investment loan is very different to giving up a slice of your business.
Let us take a look at these two variants of loans for a deeper understanding.
When you take a loan against your credit worthiness, you maintain autonomy while running the company. This line of credit financing ensures no outside interference and in turn no sharing of profits. The lender-borrower relationship is fairly simple and straightforward. One of the main advantages of investment loans is that once it has been repaid in full, you are no longer bound in agreement to the lender. If you choose a fixed business loan, you also know the exact amount to be repaid over time. No fuss and no hidden surprises.
Though this kind of credit financing may sound encouraging, there are some aspects that one must be aware of. If you do not have enough business credit or revenue to showcase, procuring funds becomes that much harder. In addition, there is also a chance that the funds received are restrictive in nature – in that, you are allowed the use of these funds for a certain type of purchases only.
Once the company has taken a loan, the amount you payback will be considerably more than the principal that you have borrowed. Getting a loan most often requires collateral; this might translate in you putting up some personal property as well (if needed). Once the loan has been taken, a commitment has been made and you will have to pay it back, whether the business takes off the ground or not.
Another line of credit financing is by having an equity partner come on board, sharing the profits of the company. An equity partner (business investor) may have ample industry knowledge, imparting it freely as part of accelerated learning that could benefit the growth of the company. As a shareholder in the company, should the business need an additional line of credit or more funding, there is a huge possibility that the investor would be willing to comply. As part-owner of the company, a keen interest will be taken by the investors to ensure that the business does well and in turn help the company gain the required momentum it needs. An added advantage here is that if the business fails, except in the matter of fraud, one doesn’t have to pay back the investor.
Though this seems like a feasible option, one does run the risk of losing majority ownership of the company via dilution of equity. With no definitive exit plan or end date, it becomes difficult to gauge when next you will be able to regain ownership. If and when you decide to sell your company in the future, a pay-out will need to be given to the investors according to their share percentage. Finally, you should most definitely be aware that bringing an investor onboard is not simply “business” – it is personal. A business decision taken based solely on emotions seldom has great results. If your investors do not see eye-to-eye with your vision or plans for the company, they can always pull the plug and walk out.
Which one should you consider?
While deciding on the type of funding you should opt for, it is imperative to compare credit financing options to derive the best value. Some of the questions to keep in mind while making this decision are – is it a fledgling business? How much ownership of the business would you like to retain? What more can an investor bring to the company in addition to funds?
To summarise, if you are looking at the opportunity of having someone come on board as a mentor to guide you along the way, giving up some amount of equity might be worth it in exchange for finances. However, if retaining full ownership of the company seems more lucrative to you, then an investment loan is a way to go.